Monday, August 28, 2017

Three Years Out: Are We on Track for FI?

Two weeks ago, I turned thirty seven. It's a weird feeling, getting old. I don't feel old. I feel like the same person, minus a little softness around the tummy and a hairline that isn't quite where I left it.

And yet here I am, older, supposedly an adult; not some kid trapped in a man's life, still playing kickball and board games and drinking too many beers on a school night.

As each year comes, we hit another milestone on our path to financial independence. We've only got three mile markers left before the big four-o. Will we make it?

And the increased spending in March is almost all due to the costs associated with buying a new home. There were the somewhat unavoidable expenses like a home inspection, appraisal, and fees to the lender. But we also bought a home that didn't have a refrigerator, washer, or dryer, adding a few thousand dollars to the new home budget. Maybe Kristy and Bryce over at Millennial Revolution have it right: maybe we'd be better off just renting.

With the bumps, we're trending towards an annual spend of $46,000, which would be a fairly big jump over the prior year. But with our new mortgage and the possibility of kids in the future, this really might be a reasonable estimate. Heck, it might be too low.

The other big change can be seen tracing the blue line, which is the estimated monthly income generated by our retirement nest egg. We saw a huge drop in April, right as we bought our new home and sold our prior one. Up to that point, we had been counting the equity in our primary home because, well, at one point we had paid off the mortgage, and we wanted to count that in our net worth. And even after we took out a new mortgage to tap that equity, the loan was still less than half of the home's value. Why shouldn't we count the equity?

Well, one reason is that Zillow's estimates are not all that accurate. Our prior home sold for about thirty grand less than the 'zestimate'. A lot of our expected gains weren't real, as it turned out.

Having learned our lesson, we changed our net worth methodology in April. Even though we supposedly have a good bit of equity in our new home (we put 20% down, so I sure hope we do), we're not counting any of that in our net worth calculations. Now, we only count our liquid investments: my 401k, our IRAs, my HSA, our taxable account, and our cash. Which kind of makes sense if we're using a rough 4% rule to calculate the income generated for financial independence. The equity in our home isn't going to throw off dividends or gains that we can spend: it's just going to sit there.

But since both of those changes hit in the same month, we had a huge drop in our expected income from our investments in April, as shown with the blue line. Anyway, I think it's a more accurate picture of how close we are to financial independence: two years and five months away, according to the Mad Fientist's lab. If things stay on the same path, we really should be done by forty.

But there's a catch. This timeline is based on two things: the first is our ability to continue saving at the rate that we are (trending towards 60% of our post tax income in 2017). This is, for the most part, within our control. I can continue to put in effort at work and make it less likely to get swept up in a round of layoffs. Even if I lose my job, I can probably find another. And Mrs. Done by Forty may want to pursue a career after getting her PhD.

Regardless of what happens with our income, we can always exert a lot of control over our spending, which is rising over time.

On the other hand, the second factor that will determine when we reach financial independence is the performance of our investments. What the market decides to do over the next three short years is not up to me. And with that short of a time frame, losses are certainly possible. (For those interested, we use Bernstein's Simpleton's Portfolio, sometimes called the "No-Brainer Portfolio". As always, nothing on this blog constitutes advice of any kind: consult with a real financial advisor before making investment decisions, yada yada.)

Even with some diversification, a double digit correction in the next three years is possible. Hell, it may even be likely. Such a correction would well exceed what we can invest in a year: we can't keep our portfolio balance where it is simply through frugality and investing more. At this point, it's not really in our hands.

It's a paradox of financial independence: as we get more control of our finances and approach the figure that will sustain our spending for the rest of our lives, we also lose quite a bit of control as we near the finish line. The amount that I continue to put towards our investments matters less and less, and the performance of the markets matters more and more.

It's an odd feeling: knowing that what you do, or don't do, becomes less impactful over time.

But that's our reality. And it's what I signed up for, too. Financial independence, by definition, involves my portfolio doing more of the heavy lifting each year until, one day, I will look over and realize it's doing all the lifting. I'll just be along for the ride, and I can let go, if I want.

As a Type-A control freak, letting go is hard. I like having my hands on the wheel, and knowing that whatever happens, good or bad, is on me. I can tell already that this will be my main struggle after reaching financial independence. I'm going to have to find something else to maniacally control.

22 comments:

I could never quite figure out how those calculators were all that helpful I have to say. I think they can give you a snapshot...something to look forward to or something you want to cry about if it's too long, but to rely on it completely. Unless everything goes perfectly smooth in life...cuz that ALWAYS happens huh? :) I can't look right now because I can't imagine staying "here" until I retire, so I don't quite know what the future will bring!

'Having learned our lesson, we changed our net worth methodology in April. Even though we supposedly have a good bit of equity in our new home (we put 20% down, so I sure hope we do), we're not counting any of that in our net worth calculations. Now, we only count our liquid investments..."

See? This is why I know you're going to be all right :) Smart people figure out how to pivot, no matter what happens in the stock or housing market.

Congrats on reaching FI in 2 more years! You're right in that it's largely dependent on market performance since your TTR is so short, but there are ways to dance out of it with side income or higher savings.

Solid article and great way for us readers to see how you are doing, the emotions into it and the math. You are right - you are great at earning, saving & investing but... what happens when the investments turn sour? Hence why you invest in a limited risk of income loss from your portfolio, that's why you do it! Market appreciation/depreciation won't matter, as long as the income and fundamentals are truly there to support that cash flow back to you as a shareholder. Stay strong through the headwinds that we may face, you got this!

I went over and read your post on taking control via investing. I can see that take, particularly with dividend focused investing. While I'm a straight indexer, I see the value of that approach: cashflow, and more certainty/predictability with that cashflow.

It is certainly true that you can't control the markets. I'm old enough to have lived through a few big crashes... as in the value of my portfolio went down to less than 50% of what it had been... meaning I ended up with less than the amount I had invested. It sorta freaked me out, and I avoided the market completely for a while after that. Gotta say, I won't be surprised if we see a major correction in the near future. Just hoping I'm better diversified this time, and that it's not as bad as the crashes after 9/11 and in 2008.

I hear you. We had started investing prior to 2008 and it formed a lot of our early investing views and behavior. My hope is that we're in a position to stay the course this time around, maybe even invest more during the downturn.

But you never really know how you'll react until you're in that situation, and seeing those gains disappear...

Well, this is why people like me invest in dividend paying companies, and not focus too much on the 4% rule. The dividends are more stable than capital gains, and essentially have a smoothing effect on returns. They grow above the rate of inflation over time. Hence, I do not know if S&P 500 will be at 1000 or 3000 in one year, but I am reasonably certain that dividends will be at least 45 - 47 in 2018.

If you take a chart of S&P 500 dividends over the past 90 years, it goes up or is flat 95% of the time. The only exceptions are the Great Depression and 2008.

Speaking of 2008, it was very reassuring to keep receiving dividend checks even when it seemed like the whole financial system was falling apart. Even better were getting dividend raises.

I like that advice, and it applies to a lot. The best bike is the one that gets you riding, and all that.

I notice a lot of belligerent arguing between this investing strategy vs. that one, and I have never understood it. The fact that we are investing at all, considering how few Americans are doing so, is something to be celebrated.

Thanks again for commenting and best of luck to you too, not that you'll need it with those dividends coming in!

Good luck on the home stretch. It looks like you're doing very well. Yeah, the stock market will crash at some point. Hopefully before you retire. It'd be much more stressful if it crashes right after retirement.

Thanks for stopping by, EL! I have a feeling that we may work past the FI date (ala the Mad Fientist) just because true retirement isn't necessarily the goal. But eventually, yeah, we'll take the leap into freedom.

Good news mate! I thought the higher expenses this year may have derailed things a bit but looks like you're all well on target barring any major corrections.

Have you got a plan B if that happens? Keep working for X more years?

What if a correction happens very shortly after you hit target? One more year syndrome anyone?! :)

One thing I like to think of about getting older is that seeing as I still feel about 25 now (I'm only 1 year behind you at 36) it's likely that I won't feel much different in another 10 years, which makes the thought of getting older a little less scary I think.

I think we're leaning a lot more into the FI part of FIRE, and not really looking to just quit the job, per se. It's a good gig, I work from home, and I enjoy it more and more as we approach our FI number. It seems that without the stress of money, and with a little FU funds, work is pretty sweet.

As for plan B, yeah, we would just continue to work, too. I don't really have any great alternative if (when) the market dips 20% or more. That's the rub I was trying to explain in the post: FIRE is ironically more out of our control as we approach it, since your nest egg is doing all the work.

And glad to know I'm not the only one who still feels like he's in his twenties. Why change? Twenties are great. :)

Disclaimer: This blog is written for entertainment purposes only: not to give advice. I'm just some dude on the internet, and one without a whole lot of credentials. It's a good idea to consult with professional before making investment, tax, or financial decisions.